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Development Aid

The Idea of Development Aid

The concept of development assistance is not new. Prior to the twentieth century, all great empires – whether Roman, British, Chinese, Spanish, Turkish or Russian – invested human and financial resources in their colonies. Such investments varied depending on the empire’s priorities. Some invested in ports or plantations; others in temples, baths, religion or tax administrations. Each aimed to bring "civilization" (however defined) to primitive areas they viewed as "backward.” Their investments benefited their compatriots and wealthy local elites more than native communities, a problem still present in development assistance. But, if done well, development aid can become an instrument of international redistribution and bring people out of poverty.

At the beginning of the twentieth century, development aid was still linked to colonialism. European countries invested in the administration and government of their colonies, whether in education, culture, transport, finance, the police force, infrastructure or the judicial system. The Dutch in Indonesia, for instance, set up local markets, improved villages, expanded irrigation systems and promoted rural cooperative credit systems, very similar priorities to those of current rural development programs. The United Kingdom’s responsibility for the development of its colonies on a continuing basis was first recognized in 1929 by the Colonial Development Act which stated that the British Parliament should approve ten-year budgets for the colonies on an annual basis.

The idea of development aid matured further after the Second World War. The Bretton Woods agreement inspired a new world order. A major area in need was Europe, as it had been devastated by the war. In 1948 the US Congress approved the use of 2 percent to 3 percent of U. S. Gross National Product (GNP) per annum to finance grants for the reconstruction of Europe, until 1953; this investment became known as the Marshall Plan. It disbursed US$13 billion (or $87 billion in 1997dollars) to 16 Western European beneficiary countries. The United States also benefited economically and politically, given that about three quarters of the goods were procured from American firms, and the spread of communism in that region was brought to a halt. Europe was rebuilt, and its populations prospered.

The Marshall Plan shows that development aid can achieve its aims. The 1950s were, however, a decade dominated by the Cold War. Aid remained bilateral, linked to the commercial or political interests of the donor country. For instance, West Germany would not give assistance to any government that recognized communist East Germany, and both the Soviet Union and the United States supported their satellites. Developing countries, led by India's Prime Minister Jawaharlal Nehru, met in 1955 and founded the Non-Aligned Movement, in order to avoid the ideological confrontation of the Cold War, and focus instead on national struggles for independence, poverty reduction and economic development.

The new assertiveness in the South led to a number of different theories about development economics. One of these, known as the “Prebisch School” or “Structuralism School”, developed at the United Nations Economic Commission for Latin America (ECLAC), analyzed pervasive market failures in the relationship between so-called central and peripheral countries and encouraged a model of import-substitution industrialization for developing countries. Another outcome of this period was the later proposal for a New International Economic Order, which was intended to revise the Bretton Woods system in favor of developing countries. The idea of a 'Marshall Plan for the South' came from civil society groups and won official support from European governments in the late 1950s. It was adopted in 1960 by the General Assembly of the United Nations which decreed that 1 percent of the GNP of rich countries should be devoted to aiding the South (This remains an ideal among reformers; Columbia University economist Jeffrey Sachs has argued that poverty could be eradicated with 1 percent of the combined GDP of donor countries).

A large number of European colonies became independent between 1955 and 1965 and were in dire need of assistance. President John F. Kennedy declared the 1960s "the decade of development", and founded United States Agency for International Development (USAID), the Peace Corps and other U.S. bilateral aid institutions. Regional Development Banks were created. There was a great emphasis on expanding the so-called "Green Revolution” (use of fertilizers, pesticides, hybrid seeds and other technologies to increase agricultural production) in order to support the food needs of a growing world population, with some controversial results given environmental impacts and the fact that famines remained despite increased agricultural output.

In any case, aid never reached its target of 1 percent of donor countries’ GNP; additionally, there were notorious accountability problems in what was included under aid expenditures. In 1969, a Commission led by the Canadian Prime Minister called for 0.7 percent of rich countries' GNP to be given in aid, excluding commercial loans and military expenditures. This goal was adopted by all of the developed countries at the General Assembly of the United Nations in 1970, though they have not achieved it to date.

After the weak results of the 1960s, the United Nations declared the 1970s the "second development decade". But because of the oil crisis aid levels actually declined, to an average of 0.29 percent of rich countries’ GNP. Yet the 1970s were intellectually prolific. Tired of the Cold War politics and the unacceptable levels of poverty in the South, development workers and academics wrote critical assessments and proposed new ideas for development aid, in areas that included the environment, social development, gender, income distribution and redistribution, employment, human rights, and basic needs, among others.

The 1980s were the so-called "lost decade of development," a title also well earned by the 1990s. Latin America was hit by the external debt crisis, along with much of the rest of the developing world, as interest rates rose and commodity prices fell. The solution for their problems came to be known as the "Washington Consensus," a formula that proposed structural adjustments requiring strict anti-inflationary measures, cuts in public expenditures, and privatization of public assets and services.

Many have questioned whether paying loans, containing inflation and building reserves (mostly in US bonds) should be major development priorities. As Julius Nyerere, first president of Tanzania from the mid-1960s to the 1980s, demanded: "Must we starve our children to pay our debts?" Critics argue that structural programs’ primary purposes were to protect banks from developed countries and to sustain the U.S. dollar, at huge social costs. Poverty and civil conflicts increased around the world, and social indicators worsened. Epidemics such as HIV/AIDS spread. Rich countries spent more heavily on peacekeeping and emergency missions, while much needed development aid remained low.

At the beginning of the twenty-first century, half of the world's population is below the $2 -a-day poverty line. The richest 10 percent of adults accounts for 85 percent of total world assets; in contrast, the bottom half of the world adult population owns barely 1 percent of global wealth. The case for international redistribution, through increased and improved development aid, cannot be stronger.

Development Aid in the Twenty-first Century

Based on the latest Organization for Economic Cooperation and Development Development Assistance Committee (OECD DAC) data (2000-07), the following is a portrait of present-day Official Development Aid (ODA).

Limited Development Resources

The percentage of developed countries’ GNP allocated to aid is still well below its 0.7 target, at 0.28 percent. Exceptionally, in 2005 aid rose to 0.33 percent due to extra personal donations sent for relief efforts for the Asian Tsunami and Iraq war, but ODA fell back in 2006 and even further in 2007. The U.S. contribution in 2007 was 0.16 percent, Japan 0.17 percent, the European Union 0.39 percent. Only Denmark, Luxemburg, the Netherlands, Norway and Sweden have met the 0.7 percent commitment. Rich countries are becoming richer – and meaner (and as the world economic crisis of 2008-09 and beyond took grip, the outlook was for them to become even more so). In real terms, their contributions have decreased (relative to their income) over the past decade; in the early 1990s, contributions were 0.32 percent of OECD's GNP on average. Several governments have claimed that the 0.7 percent commitment is outside their budget envelope; however, comparing expenditures on military defense and aid, for instance, shows that it is really a question of setting priorities.

This reduction in aid seems to come from a fatigue over the limited effectiveness of development assistance. In recent decades, aid has not done enough to reduce poverty or to create sustainable conditions for economic development. Partly, this is a self-fulfilling prophecy: since rich countries never invested in a Marshall Plan for the South, instead giving small contributions here and there, the world's 175 developing countries have never fully developed.

Some argue that private sector investments will replace development aid. While private sector flows to developing countries are significant, it should be noted that 80 percent of the flows benefit middle-income countries (Argentina, Brazil, China, India, Indonesia, Korea, Malaysia, Mexico, Philippines, Singapore, Taipei and Thailand) only. Private flows are insignificant in the least developed countries of Africa and elsewhere. Private sector flows cannot replace development aid. As well, there are many projects the private sector has no interest in funding (schools and clinics, infrastructure projects in remote areas). Money for these items will have to come from aid.

In 2002, the Monterrey development conference exhorted donor countries to reaffirm their commitment to contributing 0.7 percent of GNP to development aid. The conference was also intended to encourage developing countries to mobilize domestic resources. In view of Monterrey’s lack of results, at the initiative of President Luiz Inácio Lula da Silva of Brazil, a 2004 meeting of world leaders pronounced the Action against Hunger and Poverty Declaration to identify new sources of development finance. Proposals include: taxes on global negative externalities, such as arms sales, pollution, and destabilizing cross-border speculative financial flows (the so-called Tobin Tax), concerted international action to fight tax evasion and tax havens, increased voluntary donations using new methods (e.g. credit card sales, lotteries), and a global premium bond.

Increased Bilateralism and the Lack of a Common Global Agenda

At the beginning of the twenty-first century, donors do not favor multilateralism. Of the total ODA, 64 percent is bilateral (and that percentage is on the rise) and only 36 percent given to multilateral institutions like the U.N. agencies and the development banks.

This is another worrisome trend. Global problems like the environment require global solutions. Moving towards smaller bilateral deals may benefit donor countries (in terms of political or economic influence), but it will not bring long-lasting results.

Further, lacking a common agenda, donors finance their own preferences, without an assessment of what is missing at the global level. It is as if a government was financed by charitable contributions (instead of a proper taxation system), with philanthropists picking their own pet areas, leaving significant regions and public policy sectors with no funds. For instance, there has been an increase in short-term emergency relief, while longer-term investments in agriculture that can help millions to go out of poverty are dwindling.

Donor countries also pick their favorite allied developing countries (the “darlings”), leaving other countries “orphan”. This concentration of aid makes international redistribution unfair. Main aid recipient countries are Iraq, Nigeria, China, Afghanistan, Indonesia, India, Congo, and Egypt – all tightly linked to economic and political interests of the world's major powers.

As well, this multiplicity of donors creates problems for governments in developing countries. Each donor has different procedures and mechanisms to identify, plan, implement, monitor and evaluate its activities, and different reporting requirements; a lot of paperwork that consumes the time and resources of government officials. Each donor has its own policy priorities, often contradictory, so governments in developing countries find themselves with inconsistent policy reforms. Sometimes, donors negotiate their projects directly with ministries, bypassing central planning authorities, and thus creating tension within national administrations. Frequently, donors split areas of intervention among them (e.g., one donor contributes to the health sector and another to the education sector) regardless of the magnitude and reliability of their assistance, leaving governments without adequate support in one or another area. Additionally, donor agencies have their own disbursement processes and timetables, which may differ from the developing countries’ budget cycles; worse, sometimes funds are unreliable, disbursements delayed and programs discontinued. To remedy these numerous pitfalls resulting from donor multiplicity, an important initiative on Aid Harmonization and Alignment was launched in 2003, coordinated by OECD Development Assistance Committee (DAC).

Who benefits? Tied Aid Remains the Norm

Most development aid remains “tied.” This means that a country gives development funds with the condition that the money be spent on goods and services coming exclusively from the donor country, whatever the price. According to OECD DAC, about 60 percent of bilateral aid is tied (this figure does not include the large amount of multilateral aid, which is tied at the regional development banks) and this practice costs poor countries to waste about 20 to 30 percent of aid, given that cheaper goods and services could likely be bought in the international market.

Tied aid brings up the question of who benefits from development aid, because it is a de facto subsidy to companies in the donor country. This is particularly unacceptable in the case of development loans, which the recipient country must repay. Taxpayers in poor countries often end up supporting companies from developed countries. As of 2005, only Denmark, Finland, France, Germany, Ireland, Japan, the Netherlands, Norway, Portugal, Sweden, Switzerland and the UK had significantly untied their aid contributions. It is estimated that for each dollar the US spends on aid, 80 cents benefit US companies. For instance, most US food aid procures foodstuffs from US producers, at much higher prices than local farmers in developing countries, and ships them from the US to emergency areas in Africa at very high transport costs.

Instruments of Development Assistance Aid can be provided either as a loan or as a grant. Loans provided by multilateral banks must be repaid according to either commercial (market) or concessional interest rates (around 1 percent per year, with a maturity period of about 20 to 30 years depending on the institutions). Multilateral banks only give loans with commercial rates to developing countries with higher GDP per capita, like Mexico or India. Most Third World debt is not to multilaterals, but to private banks.

Traditionally, the main form of development assistance was "a project." Each donor would develop their projects to assist the country (e.g. a number of heath centers in a city, irrigation systems in a region, or a road). The government would have to carry the weight of overall public administration, plus coordinating different donors, all of which have different administrative and reporting systems (a lot of paperwork as mentioned earlier); this approach had high transaction costs.

The tendency in development aid has been to move away from projects and engage all donors in budgetary support. This is a way to support the government's administration (instead of donors doing investments for them), but requires parallel technical assistance to the government, and in order to work well, a good National Development Strategy and Medium Term Expenditure Framework (MTEF) linking medium-term strategic priorities with the national budget, to ensure that funds are correctly invested. This budgetary support takes different forms:

General Budget Support (GBS) consists of direct transfers from international donors/organizations to a developing country's general budget.

Sector Wide Approaches (SWAps) are based on multi-donor support to a government sector strategy and budget; once there is an agreement between government and major donors, the latter release funds to the government's budget, relying on government procedures to disburse and account for all funds, mostly for health and education but increasingly for agriculture, water supply, environment, energy and other priorities.

These new mechanisms can harmonize objectives between donors, international organizations and a developing country government. If well developed, they minimize the transaction costs of aid, strengthen governments’ capacity to develop modern administrations, and support countries’ ownership of their policies.

Conditionality of Aid

A huge controversy exists over the conditions attached to aid. Some donors, notably the international financial institutions (the World Bank, regional development banks and International Monetary Fund), demand policy reforms in exchange for budget support. Critics point out the neoliberal nature of these reforms, and many argue that other policies to generate employment and national development would better serve developing countries. But some critics also argue that conditionality should disappear altogether, as it is an intrusion upon a country’s self-determination, and leave no space for governments to set their own policies. Some General Budget Support donors like the European Union link disbursements to outcomes instead of specific policy reforms: thus, providing budget support to a government as long as it keeps on track accomplishing development objectives (e.g. reducing poverty, achieving the Millennium Development Goals).

What Is Missing: A Vision for Global Development

Aid as it is today is a necessary but not sufficient condition for development. It is, as we have noted, becoming harmonized and more effective. However, this alone will not develop Third World countries.

Development aid is a transfer of resources from developed to developing countries. It is like regional development: richer regions pay poorer regions. There are excellent examples where regional development has worked and brought prosperity to disadvantaged regions. The European Union is a good example: countries like Spain, Portugal, Greece or Ireland have caught up rapidly thanks to E.U. transfers, and access to E.U. investments and markets.

Likewise, development aid should be significant in volume, and accompanied by adequate trade and competition policies to ensure that the new entrants find a niche in the global markets. However, development aid is not only very limited in resources, it does not address global governance issues that affect developing countries, for instance, trade, financial and social global policies. The present model of trade is based on the principle of supposedly free, non-discriminatory competition among countries. But how can small, poor, and remote countries like Mongolia or Malawi compete on equal terms with the strongest players in the global marketplace? Current trade policies should be replaced by a system of "fair" trade discriminating in favor of the poorer regions, ensuring that developing countries are able to participate in the world economy. Better governance of international finance (beyond debt relief) is also critical to correct continual shocks and instabilities in today's financial markets, regulating them through a new financial architecture that supports development and stability and fights short-term speculative capital flows, tax evasion and money laundering.

Global social policies are also important to manage international migration, avoid the "race to the bottom," promote social transfers from rich to poor regions (e.g. like the E.U. Regional Funds) and mitigate negative social impacts of globalization, among other aims. What is missing in development aid is a vision for the development of the whole world (see Poverty Reduction primer on this website). The current trend towards bilateralism will not deliver this, nor will it contribute significantly to managing global public goods like the environment. Economic globalization, the closer integration of the countries of the world, has yielded a greater need for collective action on global issues. Such a vision should be adequately funded by developed countries, given that the richest ten percent of the world’s adult population owns 85 percent of total world wealth and the poorest 50 percent shares just 1 percent of it. What is missing is the promised and never delivered 'Marshall Plan for the South'.

Things to Watch Out For

The first question to ask when writing about development assistance is always "Is development aid serving the needs of a country?" Here one must realize that needs are vast in poor countries, but development resources scarce, so the issue is prioritization. Which investment will bring people out of poverty? Who are the main beneficiaries from public investments: a large number of people or an exclusive privileged minority?

Are the different programs of all donors coherent and sufficient in quantity to develop the country? What is missing? Are donors supporting a nationally-owned development strategy, or are they engaged in a myriad of small-scale projects serving their own priorities?

Can resources be mobilized domestically? Is income inequality significant in the country? Is there a wealthy elite that can be adequately taxed to bring new resources for development?

Is an aid program or project “untied” or must it procure goods and services from the donor country? Is it a grant or a loan? If it is budget support, are there policy conditions attached?